Coal prices could double again (transcript)

David Strahan: Hello. I’m
David Strahan, the author of The Last Oil Shock: A Survival Guide to the Imminent Extinction of Petroleum Man. And this is a podcast from lastoilshock.com, sponsored by Global Public Media, public service broadcasting for a post-carbon world.

Gerard McCloskey, thank you very much for talking to me. First of all, what
on earth is going in the South African electricity supply at the moment?

Gerard McCloskey: Well, it’s just run out of puff.
They’ve withdrawn supply, almost across the board in some areas, and
certainly—crucially—to the mining industry, including the coal
mines that supply them with coal, which is ironic because one of their problems
is shortage of coal.

But their other problems are much more endemic. They’ve been saying
for years—the utility Eskom in South Africa—that they need
to build 2 gigawatts, 2,000 megawatts, of power every
year for the next 20 years just to keep up with demand.

Now, basically, the government’s just ignored them,
and at the same time have sustained across the border exports to Zimbabwe and
have put more and more power into the townships—very positive, very
popular electricity move. A lot of the guys now leading the coal industry, the
black guys leading the coal industry, have pointed out the first time they ever
saw an electricity switch was when they went to university.

And, so, they’ve suddenly got a crisis that everyone knew was going to
hit them. And the problem is it’s going to take a long time to resolve.
They’re going to have to build new plants and that takes years.

Now, in the meantime they can manage demand a bit. But managing demand means
discouraging new industries that are going to use power from coming to South Africa,
which is just what the government wants to do in any case. And, so, it’s
a real mess.

They’re trying to get more coal out of the coal industry. But the
prices that Eskom were paying were inadequate to develop new mines. And the
difficulty for Eskom right now is that the world prices are going to
unprecedented highs, partly because of the problem from South Africa because there will not be the
volume of exports that people expected, and partly because of problems
elsewhere, and that prices in South Africa are a fraction of that.

DS: I just wanted to come in on that, Mr. McCloskey. There's this
interesting irony that you say that, in part, the problem is caused by a
shortage of coal, and yet the power cuts make it harder to mine more coal. But
to what extent is this really… I mean, how would you divide up the
causes; what’s most important? Is it really the capacity in the
electricity industry or is it a shortage of coal? How would you balance those
causes?

GM: No. It’s capacity within the electricity industry
because among their options were to build non-coal plants and they’ve
just have been frozen in their activity, and they have some under construction
now, which will come on. They also have problems with their nuclear plant which
has put the nuclear unit off for some time. But it was a clearly identified
need they did nothing about.

There is ample coal reserve but a lot of the mines have had some mining
difficult because of flooding. So that’s made matters worse.

But I don’t think that, unless they are prepared to offer higher
prices—instead of, say, 120 rands a ton, offer
something like 250 rands a ton at the
mine—people aren’t really keen on developing new mines. So
it’s a price issue and it’s a development issue.

DS: Why does this matter to the rest of us, if I can put it that crudely?
Is there effectively a fight between coal for export and coal for domestic use
in South Africa at the moment?

GM: Yeah. They’ve got an infrastructure capacity,
railroad and ports, that can ship 72 million tons onto
the world market. Last year they did 6 million tons less than that. And it
looks as though, despite record prices, they will have to cut back on exports
in order to supply Eskom.

Now, that has come at a time when almost identically, on the day that they
cut the power from Eskom, the Chinese government announced it was going to ban
all exports. That has double effect, okay. No exports going out of
China—they exported 42 million tons of steam coal last year—but also
the guys in the southern provinces, in Guangdong and the other southern
provinces, are now going on to the export markets to try and import coal into
the south.

So you already had a very tight market, and then China came along, and then the problems in South Africa.
And only days before you’d had half the Queensland mines inundated with rain, which
means they weren’t able to export either. So you‘ve just had a
series of totally unconnected factors which has hit the supply side of the
world market.

DS: Now what does that mean in terms of from here on in? Because these are
seemingly unrelated events doesn’t mean that this crisis, if you want to
call it that, can be solved quickly, and if so, do you think it’s likely
to be?

GM: It can’t be solved quickly because half the
problem in some of these places—certainly in Queensland,
certainly to an extent in New South
Wales—is they haven’t sufficient port
capacity. And while they’re expanding the ports the development of the
rail capacity to supply the ports has been going too slowly to keep pace with
that. So, you have the coal that could be exported but you haven’t got
the infrastructure to do it.

So you already had a tight situation which was stuffed up by the weather in Queensland, stuffed up by the weather in China, and just stuffed up by bad planning here.

And the market had already reached a very fragile state because you’d
had three political interventions which had withdrawn coal from the
international market. You had Chávez in Venezuela
instructing the state-owned Corpozulia company to stop delivering on all
their contracts and go out and renegotiate them; rather like Putin—cut
off the gas supply to the Ukraine a couple of years ago. So that’s taken
3 million tons off the market. You had the Russian railroads refusing to take
coal through Estonia after
the destruction, or the moving, of the statue to the Unknown Russian Soldier,
and the same railroads refusing to take coal through to the Ukraine after Tymoshenko was elected there.

DS: So where do we go from here? I mean, you say it’s not going to be
solved quickly, but what actually do you think is going to happen? How is this
going to play out and where will prices go in the
meanwhile?

GM: Well, one of the impacts has immediately been on
pricing. You have a fairly fluid market in steam coal and you have a very clunky
market in coking coal with prices set every year. But in steam coal where we
would normally see prices going up and down, 1-2-3 dollars in a week, in a very
volatile week, we’ve seen in steam coal since last Friday, between Friday
and Tuesday prices went up $13 and they’re continuing to go up.

I think that the impacts will be… well, we just don’t know how
big a problem China’s going to pose to anyone. China mines 2.6 billion tons of coal a year. So if it’s out for a couple of months, that hundreds of millions of tons of coal that they will not ship to
their supplies in the south and they will not ship to the international market.

So, until we see whether the snow storms have had a devastating effect,
which has taken, say, 10-20-30-40 million tons out permanently, or whether
it’s much greater than that, it’s difficult to see and evaluate
what that impact is going to be.

Right now the impact is on pricing because people are taking a very
pessimistic view—China combined with Queensland combined with South Africa.
And the pricing will have the trick of probably sucking a lot more U.S. coal on to
the international market.

Now, the U.S. used to be
a big steam coal supplier to Europe, but it backed out when it just
couldn’t compete with the low prices from South
Africa, from Columbia,
from Indonesia,
and so on. But as the international prices got higher and higher, the U.S.
market is in a totally different situation and has very, very low prices, very
big stockpiles, very low demand levels. But you need to get—reconstruct—the
old infrastructure that existed in the U.S.
of a big barge fleet coming down the Mississippi,
coal coming out through the gulf of the U.S., and to be able to get the
railroads prepared to haul coal to the east coast ports. And the east coast
ports which were being converted to import coal to start to export coal in big
volumes.

DS Is that easy to do quickly, or is that going to take some time?

GM: I think that’s a question that no one knows the
answer to. We think the U.S.
will go from about 8 million tons of exports last year to about 18 this. But
they’re not going to make the big investments at the ports and on the
rail and on the barges if they believe it’s going to be a 12-month
wonder.

Now, it was already happening; we already expected a big flow of U.S. coal. But
we only expected it for this year until the events of last week. And I think
that be given the deep-seated nature of the South African
problem—whatever the problem in China and however quickly that might be
resolved just by a thaw—I believe that a lot of European buyers will
commit to multi-year contracts with the U.S. which will enable the ports to
staff up, will enable more loading equipment to be put in, and so on. Quite a
lot can happen quite quickly in the states.

But because of the of the paucity of coking coal the U.S. was being asked in
any case to supply another 5-10 million tons of coking coal to world markets,
and that can gung up the whole infrastructure system there before you go out
asking for steam coal.

But I do think the price will resolve it. I do think price will suck a lot
more coal out of the U.S.
and that will build up through this year and certainly into next year. So it
gets a solution in time.

DS: Just come back to the other key players in this problem. China and Australia, you’re saying, are largely determined by weather, or perhaps that’s
more true in China than Australia, but South Africa seems to be more of a persistent problem. I mean, how significant is South Africa by itself in terms of the coal that
we import into Europe and perhaps into America, and, really, how
significant is that bit of the problem?

GM: South African has plateaued at around 66 million tons of exports.
They’re trying to involve more and more black empowerment companies to
get onto the export market and they were going to expand the big export
terminal, Richards Bay, to about 91-92 million tons. So it’s become a
less significant supplier from a point of view of market share.

What we’ve seen very recently is the
emergence of India
as a big coal importer. It has two natural sources. One’s Indonesia for the east coast, and South Africa
for the west coast, just because of the shipping proximity. Now I felt this
year, that while South Africa switched 9 million/10 million tons back into Asia
during 2007, I felt that they were going to have to switch, probably 4 or 5
this year, in order to supply the growing demand there.

But that was last week. This week I think
they’re going to have to do at least twice that—at least 9 or 10
million tons—in order to supply the growing demand which China, one way
or the other will not supply, which Queensland, one way or the other will not
supply the growth of, and which Indonesia is going to find itself, I think,
supplying its closest neighbor, just shipping north into Guangdong and the
other provinces.

So South Africa is certainly much more important
part of the equation that it was a couple of years ago when it was really being
eclipsed by Columbia and Indonesia, and I think going forward because we expect
demand for international steam coal to go up from, say, 650 to 800 within the
next 10 years. And some of that has got to come from South
Africa, some of that growth, or Mozambique in the north of Africa,
where they’re also developing a coal field. None of that’s going to
happen quickly.

DS: Just to sum up then, where do you think prices are headed? I mean,
they’ve clearly risen very strongly so far. Where do you think they might
be going during the rest of this year, for instance?

GM: Okay. Well, the biggest annual price settlement is for
coking coal, and largely out of Queensland and out of Canada. They settle below $100 FOB, Canada
and Australia last year. I believe there is a chance that they will double in prices to the
190s, the 210s. I think that there’s already a chronic shortage, for all
sorts of reasons, and I think that has become a truly critical situation.

You’ve got very high steel prices and people are going to face the
prospect of not being able to make steel. All over the world, all sorts of
customers, if they’re not going to get their coke—their coking coal
tonnage—they’re just not going to be able to make steel.

So I think you could conceivably see a doubling in price of coking coal.

On steam coal, which a year ago was down in the 50s out of Australia, out of South Africa, we’re already
up to 110-115. I think that there is no reason to see that that limit is anywhere in sight. I think that those FOB prices could go up towards 150. I see absolutely no reason why not.

DS: Gerard McCloskey, thank you very much for talking to
me.

You’ve been listening to a podcast from lastoilshock.com, sponsored by
Global Public Media, public service broadcasting for a post-carbon world.